Every broker knows the importance of a diversified investment portfolio. There’s truth behind the old adage, “Don’t put all your eggs in one basket.” Putting your money in more than one suitable investment minimizes your risk and improves your chances of profiting. Despite this well known adage, some brokers believe they know better and gamble their clients; money on one stock, bond, product or asset class. This type of over concentration often does not end well.
It’s important for a broker to understand each client. To create a diversified portfolio specifically designed for an investor, a broker must accommodate an investor’s unique objectives and risk tolerance. Failure to do so can lead to a lack of diversification or over-concentration – the result of an untrustworthy broker.
Why is Diversification Important?
If a financial adviser or broker recommends you place a large portion of money into just one type of investment or securities, he or she is exposing you to substantial financial risk. If the investment goes bad, you can suffer disproportionate serious losses – without hope of recovering them from one of your other investments. It’s the broker’s job to understand the current market and recommend a diversified portfolio to the client. Lack of diversification is often the result of an inexpert or careless financial advisor.
An example of lack of portfolio diversification, or over-concentration, is if you have too much money in one industry. If 80% of your positions are energy stocks, your broker has over-concentrated your investments in the energy sector. Your account faces undue risk if the energy sector declines. While diversification doesn’t guarantee that you won’t lose money, investment professionals agree that it’s the most important way to minimize risk and reach long-term financial goals. Here’s how diversification protects you:
- If sector drops, only this part in your portfolio will suffer. This minimizes the odds of losing a large sum of money at once.
- Keeping uncorrelated investments across multiple sectors can prevent substantial losses if one sector crashes. Your other, unconnected investment won’t feel the impact – and neither will your wallet.
- Diversifying across different asset classes, such as stocks and bonds, will help reduce how market swings affect you. In many cases, an upswing in one market will offset a negative move in another.
- If you encounter a fraudulent broker, his or her misconduct won’t harm you as badly. Diversification can reduce the impact of fraud and poor choices on your portfolio.
Every broker should understand the importance of diversification. Lack of diversification unnecessarily increases your risks and diminishes your chances of seeing a high return – the two main elements a good broker strives to avoid.
Lawyers Who Can Help Recover Losses
Although no broker can eliminate your investment risk completely, brokers can and should do their best to minimize risks. In the investment industry, this means diversifying your portfolio. If you lost a lot of money in one fell swoop because your broker recommended that you put all your eggs in one basket, you may have been the victim of a dishonest or negligent stockbroker.
It’s a broker’s legal duty to recommend suitable investments and investment strategies. By recommending a diversified portfolio, brokers can reduce the level of risk to their clients. Erez Law is a securities fraud firm whose practice spans the U.S., including Puerto Rico. It also spans Latin America, including Argentina, Colombia, Mexico, and Venezuela. We have the resources and knowledge to help harmed investors. Contact us today for a free consultation regarding your case.